U.S Treasury Yield Curve Inverts Indicating Looming Recession
On Friday 4/1/2022 the most watched part of the U.S Treasury yield curve, the 2-year and 10-year yields, inverted. The 10-year U.S. Treasury bond ended the day at 2.38%, 6 basis points below the 2-year U.S. Treasury yield of 2.44%
This is the first time this curve has inverted since 2019, and if history is any indication, a recession may be looming. We will try to put this as simply as possible and try to give a general reason as to why a yield curve inversion preceded every recession in the last 40 years.
A treasury is a government bond or contract where the lender (the investor) gives a loan to the government. In return for giving the government money, the investor expects a yield. In the case of a bond, the yield is the interest rate the borrower (the government in the case of Treasuries) has to pay the lender for taking on the risk.
In general, with borrow and lending, you would expect with higher risks comes higher yields. For government bonds, these risks include default risk, inflation risks and opportunity costs.
Default is the event where the government does not pay the loan (very unlikely when the government has a money printer).
Opportunity costs is straight forward, if yield is low you may be able to get a better return somewhere else.
Inflation risk is important in bond markets, since this affects your real rate of return. If inflation is high you are taking the risk of your fixed contract (coupon payments) being devalued or being worth less in the future.
In a normal, well functioning economy, you would expect a bond with a longer duration to give a higher rate of return than a short duration bond. This is because investors are taking on more risks. They are waiting a longer period of time to get their money back. In this longer time frame, the unknown for the above risks is greater.
It is important to note that when bonds are selling off, their yields are actually increasing. This may sound counterintuitive, but since bond coupons are a fixed contract, if someone on the secondary market can get the bond for a lower price they are getting a higher rate of return (or higher yield) than the person who originally purchased it. When people purchase bonds on the secondary market, their yield goes down. The secondary market then helps to price the primary market.
The different yield curves look like this:
A yield curve inverts when investors sell off short dated bonds and/or buy long dated bonds. This means investors think they’re less likely to get paid back in 2 years than in 10 years. This phenomenon indicates an economic slowdown and causes havoc in the fixed income market.
While yield curve inversion has been a good barometer for a looming recession, it has not been a precise indicator for when the recession will happen. The last four times the 2/10 yield curve inverted, the S&P went up an average of 28.8% before peak which occurred 17.1 months later. Recession started on average 21 months later. With bitcoin still largely correlated to risk assets, we may expect a similar trajectory after a yield curve inversion.
So while a recession may be looming, this means what happens in the immediate term is still anyone’s guess.
Kraken enables Bitcoin Lightning Network Withdrawals
Major cryptocurrency exchange Kraken, has added Lightning Network support to allow for instant, final settlement of bitcoin for near 0 fees. Lightning Network is a quickly growing Bitcoin Layer 2 , that allows for off-chain Bitcoin transactions.
Many exchanges have been inexplicably slow to integrate Lightning network withdrawals, however this news may point to that starting to change.
As we’ve noted in a featured article, Lightning Network, not only allows for fast and cheap bitcoin payments but it can also potentially help with privacy if some additional steps are taken. To learn more about how to improve bitcoin privacy with mobile wallets, the lightning network and submarine swapst read our article here: https://www.suresats.com/post/enhance-privacy-to-kyc-d-bitcoin-with-mobile-wallet-submarine-swaps
While we are not huge proponents of encroaching KYC. KYC exchanges directly onboarding users to lightning may be a trojan horse for improved bitcoin privacy.